5 things to consider when buying an established franchise

FranchiseSales.com reveals the positives and pitfalls in buying a franchise from an existing franchisee

Having decided to purchase a car, motorists tend to pursue one of two strategies: some go for a shiny new model with zero mileage and warranties, whilst others search out a pre-owned performer of proven reliability.

Similar options exist in the franchise world which means you may not necessarily have to tread the new-franchise path of high initial investment, risk and uncertainty.

So let's consider the issues involved if you're thinking of taking the existing-franchise route.

Known entities

When buying a franchise it's important to remember that, even though they occupy a special niche, each franchise is still part of the business universe and the market forces therein. No matter how attractive the proposition, a new venture cannot guarantee success.

Though re-sales don't offer guarantees either, opting for a road-tested franchise business avoids many of the pitfalls faced by market-fresh franchisees.

Pre-existing goodwill is recognised as a major advantage to the purchaser and is a quantifiable asset within the seller's asking price. An established franchise will have an easily verifiable community reputation and loyal customers.

Whilst a portion of the goodwill may attach to the brand itself (as with larger franchises), if existing customers receive the same level of service and customer care, or better, they will continue supporting the business, and will be much more likely to view minor changes and improvements in a positive light.

Having said this, prospective new purchasers would be wise to pinpoint the precise features of the brand which customers value the most.

Existing customer goodwill means, of course, that the prospective buyer has access to that particular franchise’s track record, as opposed to the educated guesswork a new franchise demands. In this case the profitability of an existing franchise in terms of earnings, cash flow and working capital requirements is available for scrutiny.

In addition, careful enquiry will reveal seasonal trends and similar business-specific fluctuations – if assessed accurately, this vital financial history can yield reliable base data for future performance projections, removing much of the element of speculation from the purchase process.

Inheritance issues

In cost terms, staffing is likely to be the largest ongoing business expense as well as the greatest asset.

Acquiring a reliable workforce releases a new owner from the trials of hiring and initial training which often delay the launch of a new franchise project.

Naturally, these benefits will influence the pricing of the business and it is for the new purchaser and his advisor to evaluate their true worth. For example, key staff will be useless if they leave – especially if they move to a rival concern – and even reliable used equipment will have a shorter lifespan than the new equivalent.

The legalities

Buyers must also assess whether any imminent legislation or other industry change may require costly refurbishments.

Purchasing an existing franchise can often be as simple as signing to accept transfer of the seller's original franchise agreement, and it is thus essential for the buyer to establish any franchisor-related obligations, not all of which may be included in a routine pre-sale disclosure.

Amongst many possibilities, a prospective new owner could be subject to a costly franchisor's vetting process for approval as a suitable franchisee – so the implications of non-approval must be considered.

It is also essential to check the details of the proposed franchise agreement - for example, the franchise term, royalties and similar critical features could be different from existing arrangements.

Other changes such as advertising contributions or territorial boundaries may also have implications for the future viability of the franchise.

If an interested buyer hears the franchise agreement is unchanged, he should expect to be able to verify this from the original documents. And where significant changes have occurred, or have been intimated, details of all such franchisor amendments will be required for evaluation.

As with any franchise transaction, this highlights the need for experienced support and legal advice to inform and safeguard the buyer's interests.

Cost considerations

Once all enquiries have been completed, unlike a new franchise where most costs are fixed, the would-be franchisee can negotiate a price with the present owner.

This extra flexibility not only influences the purchase price but may also secure valuable extras such as induction and training facilities, as well as advantageous payment terms and perhaps access to purchase-finance options.

In addition, the opportunity to negotiate a settlement offers the chance to maximise investment returns by driving down the purchase price. Then, when the deal is done, bankers will be much keener to lend against the certified history of an operational business rather than the speculative, franchisor-derived performance indicators of a new franchise.

Do your homework

The great advantage of an existing franchise is that it's a work in progress, but a big mistake would be to assume that this is a ‘sure thing’.

It is important to assess a franchise resale with the same rigour as would be applied to the acquisition of a brand-new franchise. For instance, if a business has declined, it won't necessarily follow that the fresh impetus of a new ownership is all that is required to address the underlying problems: it may be that market trends, proposed developments, the relocation of anchor retail concerns or a host of other possibilities are responsible.

In short, you can't know too much about the existing franchise concern you plan to buy. Remember the difference between acquiring a profitable 'turnkey' business, or a disastrous 'turkey', is not a slip of the pen, it's a reflection of the quality of your research.

About the author

Jo joined Dynamis in 2005 to co-ordinate PR and communications and produce editorial across all business brands. She earned her spurs managing the communications strategy and now creates and develops partnerships between BusinessesForSale.com, FranchiseSales.com and PropertySales.com and likeminded companies.